Q. I have set up custodial accounts for my three grandchildren in hopes of helping out with college expenses in 10 to 15 years. They are not 529 plans, and I worry that they won’t have the same tax benefits. Can I set up self-directed 529 plans? I think I can do better than the conventional plans by actively picking stocks and trading when appropriate. I’ve been doing that with my own accounts for 30 years.
— Gram

A. 529 Plans are so popular because of their tax benefits.

Funds in a 529 grow tax-free as long as the money is ultimately used for qualified education expenses.

The accounts you set up are probably custodial accounts, such as a Uniform Transfer to Minors Act account. Those have some tax benefits, but they’re nowhere close to what a 529 offers.

No there are no self-directed 529 plans — at least not for trading stocks.

Each plan must be sponsored by a state and the state’s department of education, said Reed Fraasa, a certified financial planner with Highland Financial in Riverdale, and are designed so money is made on the set-up through fees.

"Allowing someone to trade stocks avoids that fee arrangement, and is contrary to the purpose of having a diversified investment plan — something most advisors would highly recommend for an education fund and something that is likely a part of each state’s charter for a 529 plan," Fraasa said.

There are self-directed 529s, but they offer a menu of investment options that is built around mutual funds, not individual stocks.

Investment options include age-based portfolios that transition from stock-heavy allocations when the children are younger to bond- and cash-heavy allocations as the children approach college age, said Brian Kazanchy, a certified financial planner with RegentAtlantic Capital in Morristown.

"The age-based options are appropriate for most as the management of the assets is brought into alignment with the time horizon of when the funds will be used," Kazanchy said. "More active investors would likely choose the individual mutual fund options to build their own portfolio allocation within a 529 plan."

He said the offerings are similar to what you might find in a company retirement plan, with 10 to 20 fund options, and most will probably be index funds.
Kazanchy said for most investors, the tax benefits of a 529 plan are too attractive to pass up.

"After all, a bird in the hand may be better than attempting to outperform enough to make up for additional interest, dividend, and capital gains taxes that would need to be paid when investing in a custodial account," he said.

If you really want to trade stocks for the education fund, there is another option, Fraasa said.

Assuming you have at least five years before the funds are needed, and assuming your earned income is below $170,000, you could establish a Roth IRA for you and your spouse, and even for your kids, as long as they also have earned income, he said. The contribution limits are $5,500 per person, or $6,500 for those over age 50.

"In the Roth you can trade at a broker/dealer and if you withdraw the funds after five years, the earnings are tax-free," he said. "The only thing is that the Roth IRA has this limit to the amount you can fund, whereas the 529 doesn’t have those low limits to the amount you can fund."
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